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December 2, 2013

Roubini Frets Over ‘Slow-Motion Replay’ of Last Housing Bubble

The economist sees ‘signs of frothiness, if not outright bubbles’ in many developed and emerging market countries’ housing markets

Nouriel Roubini is seeing signs that we are “entering bubble territory” in nearly a score of developed and emerging markets countries that he warns “looks like a slow-motion replay of the last housing-market train wreck.”

In a Nov. 29 opinion piece appearing on Project Syndicate, the NYU professor and economist says the signs of “frothiness” include fast-rising home prices, high and rising price-to-income ratios and high levels of mortgage debt as a share of household debt. Aided in the developed countries by very low short- and long-term interest rates, and considering their slow GDP growth, low inflation and high unemployment, “the wall of liquidity generated by conventional and unconventional monetary easing is driving up asset prices, starting with home prices.”

In the developed world, Roubini sees the beginning of bubbles in Europe (Switzerland, Sweden, Norway, Finland, France, Germany and at least in London in the U.K.) in North America (Canada) and in Australia and New Zealand. Bubbles are appearing in EM countries (though he says the “situation is more varied”) in those countries: Hong Kong, Singapore, China, and Israel and in major cities in Turkey, India, Indonesia and Brazil.

“With central banks…wary of using policy rates to fight bubbles,” Roubini’s biggest worry is that the standard tools applied by regulators—what he calls “macro-prudential” regulation and supervision of the financial system to address frothy housing markets—will prove “inadequate to control housing bubbles.”

Roubini did not discuss the U.S. housing market, but two reports last week showed that the domestic market is certainly improving. Building permits for future U.S. home construction rose 6.2% in October to 1.03 million units, beating economists’ consensus expectations and reaching the highest level since June 2008. The S&P/Case Shiller composite housing price index of 20 metropolitan areas increased 13.3% in September over September 2012, the strongest single-month gain in the index since February 2006.

Robert Shiller himself has expressed some concerns over the housing market worldwide. In an interview published this weekend in the German magazine Der Spiegel, he expressed worries over the price of real estate markets in several Brazilian cities, though in another interview, in Barron’s this weekend, he did not see any bubble in the U.S. housing market.

Roubini agrees on the need for “macro-prudential” regulation, in which regulators decree “lower loan-to-value ratios, stricter mortgage-underwriting standards, limits on second-home financing, higher counter-cyclical capital buffers for mortgage lending, higher permanent capital charges for mortgages, and restrictions on the use of pension funds for down payments on home purchases.” However, because of the internal political criticism that such regulation will “take away the punch bowl of liquidity” from those housing markets, the regulation is “modest,” he says, and therefore “the political economy of housing finance limits regulators’ ability to do the right thing.”

Roubini says that because “easy money and the need to hedge against inflation” remain operative throughout the world, that these housing bubbles “may not be about to burst just yet.” But he worries that “the higher home prices rise, the further they will fall—and the greater the collateral economic and financial damage will be—when the bubble deflates.”

In those countries where “non-recourse loans allow borrowers to walk away from a mortgage when its value exceeds that of their home, the housing bust may lead to massive defaults and banking crises.” In other countries where recourse loans “allow seizure of household income to enforce payment of mortgage obligations, private consumption may plummet as debt payments (and eventually rising interest rates) crowd out discretionary spending. Either way, the result would be the same: recession and stagnation.”